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In Report, Speed Trades’ Problems and Pluses

The rise of controversial high-speed trading firms has generally been a good thing for ordinary investors, a two-year British government study has concluded. The study, however, found that the increasing prevalence of computerized trading may lead to isolated incidents of instability in the financial markets.

The report released Monday night is the product of the most comprehensive effort to date to understand the computerized trading firms that have come to dominate the financial markets and generate anxiety among regulators and investors.

The committee that oversaw the study largely rejected some of the most troubling accusations that have been made about the firms that practice high speed trading, or H.F.T., including charges that they have caused greater volatility in markets and manipulated stock prices.

“Some of the concerns about the problems of H.F.T. are misconceived,” said John Beddington, the British government’s chief scientific adviser, and the head of the government body that ran the project, the Foresight Programme.

But the committee concluded that regulators had failed to gather enough data or build the expertise needed to allay a widespread assumption among professional investors that faster traders have an advantage and profit at the expense of ordinary investors.

The committee’s findings are likely to become a touchstone in global debates about how to deal with the fast rise of high-speed trading firms. While the companies have become entrenched in the American stock markets — now accounting for just over half of all trading — they are just beginning to rise to prominence in many foreign markets, including European stock exchanges.

Regulators and academics around the world have struggled to keep up with rapid development of the industry — a problem that the British Government Office for Science was hoping to alleviate with its inquiry. Over the last two years, the office has commissioned about 50 independent studies from more than 100 academics and industry experts from 20 different countries. The report out Monday is a synthesis of those findings.

The committee’s conclusions are consistent with a number of academic studies that have found that competition between H.F.T. firms has made it easier and cheaper for ordinary investors to buy or sell stock whenever they want.

They also confirm some of the problems with high-frequency trading that academics have pointed to in the past. For instance, the report said that high-speed traders can exacerbate big swings at moments of crisis, similar to the 2010 findings of Frank Zhang, a professor at the Yale School of Management. But the authors of the report that these are only isolated events.

Mr. Zhang said on Monday that the incidents of big price swings were a problem precisely because they were isolated, and as a result they were that much more unpredictable and unnerving for ordinary investors. The clearest example, he said, was the 2010 flash crash, when share prices dropped almost 10 percent in half an hour with little obvious reason.

“They miss the bigger picture,” Mr. Zhang said of the report’s authors.

David Lauer, a former employee at a few of these trading firms who has testified against the industry, said the British commission ignored or downplayed a number of studies that had pointed to the significant costs imposed on ordinary investors by recent developments.

Mr. Lauer pointed to a paper released in September by the Federal Reserve Bank of Chicago that said that many trading firms did not have stringent processes to test their trading programs or to stop runaway trading after it started. That finding was notable because the trading firm Knight Capital lost nearly $460 million in half an hour in August when one of its computer programs went awry.

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But Mr. Lauer said his larger concern with the British report was that it did not acknowledge the degree to which the markets had become too complex to be understood even by the world’s most advanced scientists.

“If you can’t understand the market then you can’t understand how to fix it,” Mr. Lauer said.

Terrence Hendershott, a professor at the University of California, Berkeley, said that the lack of good scientific evidence on the effects of high-speed trading should be blamed not on the British committee, but instead on regulators.

“Given that these issues have been coming up for four years, how is it that the regulators have not been able to make more progress on this?” Mr. Hendershott said.

But Mr. Hendershott, who advised the British committee on parts of its report, said the group did a good job of noting where there are not problems.

The committee, for example, found no evidence that high-frequency firms have been able to manipulate the prices of shares for their own benefit. The report argues that the rise of high-speed trading may be helping to prevent price manipulation because the firms have an incentive to find aberrations in the prices of stocks and quickly force prices to proper market levels.

The authors do make a few recommendations for improving markets, but the major ones are already in effect in the United States, including circuit breakers that stop trading in a stock when it rises or falls more than a given amount.

Mr. Beddington acknowledged that his group did not contend with some of the more intractable issues that many investors have been complaining about with increasing frequency in the United States, including the fragmentation of American stock markets onto 13 different public stock exchanges and dozens of private trading venues. Larger institutional investors have said this has made it hard to execute orders that used to be simple.

Joe Saluzzi, a co-founder of Themis Trading, and one of the harshest critics of high-frequency trading said the British committee lacked the evidence to come to firm conclusions on some of the most highly debated concerns, like the payments that exchanges give brokers to receive customer orders.

“They are punting on a lot of things,” Mr. Saluzzi said. “Am I surprised? No. Are we disappointed? Sure. They could have dug a little bit harder here.”

A version of this article appears in print on October 23, 2012, on Page B1 of the New York edition with the headline: In Report, Speed Trades’ Problems And Pluses. Order Reprints|Today's Paper|Subscribe